Fed Hawks seek ‘neutral’ with hikes!

The USD$ is stronger in the O/N trading session. Currently it is higher against 11 of the 16 most actively traded currencies in another ‘whippy’ trading range, just ahead of Bernanke’s testimony this morning on widening credit-market losses.

Yesterday, with no data in the US to chew on, traders kept growth issues front and center in respect to their trading strategies. Elevated energy costs, due in part to weekly stock levels, had the greenback trading once again under pressure vs. the EUR. The market continues to digest Bernanke extending the Fed’s emergency loan program for investment banks into next year (PDCF-primary dealer credit facility, FTSLF-fed term security lending facility). Analysts believe that this may help reduce concerns that investors and dealers have. Perception is everything; troubled Fannie Mae paid record yields on $3b bills worth yesterday. The ‘perception’ is that the company does not have enough working capital to see out the housing debacle. Tier 1 and Tier 11 working capital for global financial firms is now an issue. Expect more copy to be attributed to this topic over the coming months. The Fed’s extension should make it more difficult for the Fed to hike rates in the short term (2.00%). But, hawkish sentiments from other Fed members are getting louder. Kansas City Fed President Hoenig said that they should raise interest rates back to their ‘neutral’ level as quickly as reasonably possible to prevent high inflation taking root. ‘2.00% is accommodative; 2.5% is accommodative. So there is room to move back towards neutral without becoming tight and without being neutral’. Fed member Stern said that they are well positioned to deal with the downside risks to growth, but, the inflation issue may turn out to be the bigger challenge.

European data has been soft of late, especially in the UK where consumer confidence has plummeted. It is widely anticipated that the BOE will keep rates on hold this morning (5.00%), but accompanied with a dovish communiqué from governor King.

The US $ currently is higher against the EUR -0.25%, GBP -0.49%, JPY -0.46% and CHF -0.47%. The commodity currencies are mixed this morning, CAD -0.15% and AUD +0.16%. The loonie continues to trade within its monthly range, despite gaining against most of its major trading partners on the back of higher energy prices and better than anticipated housing starts yesterday. With over 50% of Canada’s exports commodity based, it’s bound to have an effect on the currency. Housing starts came in at +218k vs. an expected +216k. Fundamentals are working in the loonies favor at the moment. But, global concerns over financial finances have investors questioning global recession. Any slowdown will have an impact on commodity pricing for various reasons. Stagflation has been CBankers nemesis for most of this year. CBankers have had their work cut out trying to provide liquidity and financial flops. These balancing acts will of course hurt ‘higher yielding’ currencies over time as risk aversion trading strategies tend to become more dominant. The market should not expect BOC governor Carney to change rates on July 15th.

The AUD$ rose (0.9585) after a government report showed jobs rebounded by more than three times than expected (+29.8k vs. +10.2k). This indicates that the economy may be resilient to the rate hike (7.25%), and traders are speculating that the RBA will hike in the medium once again.

Crude is higher O/N ($136.55 up +50c). Geo-political concerns and inventory levels initially boosted crude prices yesterday. The EIA report showed a bigger-than-forecasted decline in inventories w/w. Stocks fell -5.84m barrels to 293.9m vs. an anticipated decline of -2.1m barrels. But, digging deeper, the report showed that most of the inventory drop occurred on the US West Coast (analysts will tell you that distribution system is isolated from the rest of the country). The news of Iran test-firing a long-range missile capable of reaching Israel has heighted fears of Mideast supply issues. But, global growth concerns probably remain the ‘trump’ card. Fears that economies will slow even further had investors selling through technical support levels earlier this week. Week-to-date crude has given up close to $10 a barrel on speculation that financials will need more working capital for their bottom line. Year-to-date commodities have been purchased as a hedge against inflation, but, with a potential global recession on the horizon had encouraged some exiting of profitable trades. The G8 has lent their support for lower crude prices. They unanimously have ‘a strong concern about the spike in oil’ and collectively announced that ‘the world economy is now facing uncertainty, with downside risks persisting’. With the greenback remaining under constant pressure vs. the EUR, by default should lead to better buying on pullbacks, unless global growth fear ‘trumps’. Gold prices have remained close to home ($930) as energy costs stabilize, thus reducing the appeal of the ‘yellow metal’ as a hedge against inflation, despite Mideast concerns.

The Nikkei closed at 13,052 up +20. The DAX index in Europe was at 6,331 down -55; the FTSE (UK) currently is 5,457 -72. The early call for the open of key US indices is lower. Yields of the US 10-year bond eased 6bp yesterday (3.84%) and are little changed O/N. Ten year product remains close to their monthly lows on the back of higher energy prices and investor concerns that mortgage-related losses at financial firms will go deeper than widely anticipated. With market perception of both Freddie and Fannie troubles worsening, saw Fannie offering $3b notes at higher yields yesterday. Traders have switched and seek the safety of the FI class for now.

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